Monetary Policy

This is a guest post by Aala Abdelgadir. Aala is a research associate for the Council on Foreign Relation’s Civil Society, Markets, and Democracy Initiative. On September 22, Sudan’s government announced the lifting of fuel subsidies as part of an IMF-backed strategy to restabilize the economy. Protests broke out the next day in Wad Madani and spread to several other cities, including the capitol Khartoum. President Omar al-Bahsir defended this latest austerity measure as a necessary step to prevent the total collapse of Sudan’s economy, which has been teetering since South Sudan seceded in 2011 and took with it three quarters of oil profits, which accounted for 48 percent of Sudan’s government revenue. In the two-hour press conference announcing the subsidy cuts, al-Bashir failed to acknowledge his government’s role in precipitating the country’s current economic crisis. Al-Bashir’s government helped incite a large-scale armed conflict in 2011 when it refused citizens’ demands for inclusive governance in the Darfur, Blue Nile, and South Kordofan states. Moreover he glossed over his government’s failure to reach an oil sharing agreement with South Sudan, leading to military skirmishes along the border and halting oil production for over a year since 2012 (with brief resumption). This colossal mismanagement of bilateral relations with South Sudan and costly internal contlict has drained government coffers and stunted Sudan’s meager economic growth prospects, which the IMF had forecast at 1.2 percent with sustained oil production. Fuel prices doubled overnight after the subsidy cuts went into effect. The cost of transportation, food, clothing, and other basic goods spiked, intensifying preexisting economic hardships for Sudan’s beleaguered population, almost half of which lives in poverty and subsists on a monthly minimum wage of 450 Sudanese pounds (U.S.$102). Since the outbreak of protests last week, the government has been slow to address economic grievances. It promised to raise minimum wage retroactively for salaries since January 2013, and offered a one-time handout of 151 Sudanese pounds (U.S. $21) to half a million poor families. But these conciliatory gestures have not pacified protesters. Many are incensed by the government’s repressive measures to shut down demonstrations, including its implementation of a “shoot to kill” policy that has resulted in over two hundred deaths and eight hundred arrests. To further silence protesters, the government is trying to control the country’s media outlets, suspending publication of major national newspapers and shutting down the internet for part of last week. Public ire over the country’s untenable economic situation has mingled with both frustration over these repressive tactics and a general sense of political disenfranchisement, prompting calls for the dissolution of the current government and sustaining protests into their second week. Political opposition parties, fed up with the government’s exclusive grip on power, have echoed the public’s call. Even some senior officials of al-Bashir’s own party signed a memo last week urging the president to cancel the subsidy cuts and stop the crackdown on protesters. On Wednesday, the spokesman of the Democratic Unionist Party (DUP), which partnered with al-Bashir’s government in 2011, resigned. These developments threated al-Bashir’s reign and intensify the sense of political uncertainty, and perhaps opportunity, in Sudan. If protests continue, al-Bashir will have few cards left to play, especially if his political allies do not stand behind him. Oil talks with South Sudan are at a standstill, and there are limited options for international borrowing due to the country’s bulky external debt and the sanctions imposed by the U.S. Therefore, the government will not be able to immediately ease the economic pressures on citizens. Instead, al-Bashir will have two likely options: cede some political ground and opt for inclusive political reform, or intensify government repression.

The first move is the hardest. The Federal Reserve defied expectations and did not reduce, or taper, its purchases of Treasury and MBS securities today, leaving them at $85 billion per month.  The economic projections accompanying the statement suggest a significant divergence of views about the prospects for recovery and the outlook for interest rates.  It suggests little concern about a rapidly increasing balance sheet.  What comes next depends on the data, a message the Fed has been sending for some time.  Markets reacted sharply, with stocks and commodities spiking, while bond yields and the dollar fell on the news that policy would remain easy for longer.  Good for U.S. financial conditions, but if you were looking for clarity, today probably didn’t provide it. A few thoughts. 1. If not now, when?  With the economy growing despite significant fiscal drag, most of us expected the Fed to start the process of tapering, along with additional guidance about policy aimed at avoiding a further rise in market interest rates.  Indeed, the “broad contours” of the economy are evolving as the Fed expected, but rather than beginning the taper, they concluded that more evidence was needed.  That may come in the next few months, but with the additional noise of the fiscal cliff and a Fed transition, the bar for starting a taper may be elevated into 2014. So the doves have prevailed, and have done so without additional dissents. 2. Goldilocks in 2016?  In the run-up to the meeting, markets were focused on Fed member’s forecasts for 2016, which were published for the first time today.  The “dots” on the Fed’s forecast chart show interest rates averaging 2 percent, but with a wide divergence (0.5 percent to 4 ¼ percent).  This compares to a market expectation of around 2¼ percent (in the longer run, interest rates are expected to stabilize at around 4 percent).  Growth and unemployment expectations for 2016 are also widely disbursed, and several participants expect unemployment to be near its long-run level at that point.  This suggests substantial differences of view on the path for policy.  2016 is a long way off, but it’s still an anchor for market interest rates. 3. Inflation still matters (being too low).  Bernanke in his press conference reminded us that inflation “persistently” below their 2 percent target is a reason to delay tapering (though that’s not their forecast).  It’s not just the labor market that determines the path for policy.  We knew that already, but if pounding the table on the risks from low inflation comforts markets, it’s worth it.  Relatedly, an inflation floor wasn’t introduced today, as some had speculated, but Bernanke signaled it could be considered in the future. 4. Triggers and thresholds, a clarification.  Markets arguably are still confused by the Fed’s communication strategy, and in particular how tightening is linked to the unemployment rate.  We have been told in the past that purchases were expected to end when unemployment was 7 percent (a forecast), and that rate hikes would be considered when it fell to 6.5 percent (a threshold for considering a move, not a trigger forcing one, although many market participants still don’t understand the difference).  Bernanke today addressed the confusion by emphasizing that the rate could go well below 6.5 percent before they tightened.   I am not sure he cleared it all up. 5. Structural and cyclical unemployment.  Bernanke highlights that most of the decline in unemployment this year reflects job growth rather than a decline in the participation rate.  (Since December, the unemployment rate has fallen from 7.8 percent to 7.3 percent, while the labor force participation rate has fallen from 63.6 percent to 63.2 percent.)  I have previously blogged on the debate over whether the decline in the participation rate is structural or cyclical.  I believe that, on balance, the evidence suggests that the majority of the decline is structural, reflecting longer-term trends and long-term unemployed workers losing connection to the labor force.  But some is cyclical, and as long as monetary policy can help at all, and inflation is low, it adds to the case for sustaining an easy policy. 6. Time consistent policy?  If the economy is near full employment by 2016, why should rates still be only 2 percent?  In recent weeks, a number of economists have criticized the credibility of the Fed’s forward guidance.  Any precommitment to keep rates low for long—as the Fed is doing and as economic theory suggests is needed—may require them to hold rates down even when conditions could justify an increase.  The idea is that the precommitment stimulates demand now, offsetting the possible costs of higher than targeted inflation down the road.  (By the way, the same would be true with nominal income targeting, a policy some Fed participants may support.) Is it appropriate to tie their hands in this way, and is the commitment even credible?  The question is all the more interesting given the transition at the Fed and the likelihood that the Federal Open Market Committee will look very different in a few years’ time.  Today we heard that the policy is the right one—and is time consistent—as long as activity evolves as expected.  Interest rates should remain low, in line with their central forecast, even as we approach full employment as the repair from the financial crisis continues. All in all, even though there was little change in policy, that in itself made this a significant meeting.  

This is a guest post by Stephanie Leutert, a research associate here at the Council on Foreign Relations who works with me in the Latin America program. In recent years, Venezuela’s president Nicolas Maduro has played a leading role in crafting some of his country’s best known foreign policy and regional integration initiatives. Serving as Hugo Chávez’s foreign minister from 2006 to 2012, Maduro made a name for himself in the foreign policy world through his more radical policy (toward states such as Syria, Iran, and Libya) and at times, more pragmatic approach (especially toward Colombia). But in his role as president, Maduro’s foreign policy agenda has diminished, and will likely stay that way as long as his capacity to project abroad is limited by the turmoil at home. From the beginning Maduro has struggled to gain his political footing. Unlike Chávez—who won his elections by landslides—Maduro entered office with both a slim majority and the din of cacerolazos (pot-banging protests). Soon after, he faced an opposition leader defiantly meeting with Colombia’s president, the voting dead scandal, and a leaked recording revealing his party’s infighting and corruption. While these types of political scandals and rivalries are nothing new in Venezuela, Chávez quickly put out the fires through a combination of charisma, public popularity, a network of political appointees, and strong military ties—all of which, to varying degrees, Maduro lacks. Perhaps even worse for Maduro is his responsibility to keep Venezuela’s troubled economy afloat. Nearly complete focus on the country’s oil resources (making up a full 97 percent of exports) combined with widespread mismanagement across key sectors has affected average Venezuelans. Electricity and food shortages are common (one of every five basic goods is considered scarce) and the inflation rate hovers between 20 and 35 percent (even hitting 42 percent earlier this month). The crisis has already threatened Maduro’s approval ratings, ensuring that the country’s economy (and not foreign policy) will receive the lion’s share of his attention. To top it off, Venezuela’s “twenty-first century socialism model" that was promoted across the hemisphere is also becoming a tougher sell. The state-based model has been losing regional-integration ground—at least in the public relations realm—to the Pacific Alliance (a free trade agreement between Chile, Colombia, Peru, Mexico, and perhaps soon Costa Rica and Panama). These countries have so far agreed to eliminate 90 percent of tariffs, integrate their stock markets, and encourage more seamless migration, providing an energetic alternative to other regional initiatives. While it is still too early to predict how this newest alliance will fare over the long term, its growing buzz has detracted attention from Venezuela’s preferred models. This is all not to say that Venezuela’s foreign policy can be counted out—it can’t, especially given the country’s enormous oil reserves, Chávez’s legacy of regional leadership, and Maduro’s willingness to irritate the United States for a few political points. But stabilizing his grasp on power and Venezuela’s economy will dominate Maduro’s agenda. And though efforts to unite Latin American countries through trade and energy will continue, today’s most popular initiatives may not be in the style that Chávez or Maduro would have wished.